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Put to the test: T&M sector investment stands strong

Author : Tom Smith, Associate Director at Livingstone

03 July 2018

The global T&M industry has been gathering momentum, driven by a strong underlying market and increasing mergers and acquisitions (M&A), volumes and valuations. As this piece maintains, global M&A involving T&M companies have hit a record high – with the UK reinforcing its position as the second largest market.

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The outlook for investment is positive, with many corporates now expanding their operations into new markets by acquiring technically differentiated companies. Additionally, renewed interest from private equity investors has further driven M&A activity in the sector, supported by an ongoing record level of ‘dry powder’ (available investment capital), particularly with UK firms.

Sector investment remains strong

Companies with specific and patented ideas are most highly sought after – with a particular focus on companies with ready scalability and defensibly strong margins. Potential corporate acquirers see the potential of overlaying their own specialist international sales and distribution capabilities that are often hard for smaller, privately held T&M instrumentation businesses to build without significant investment and a degree of risk.

The fact remains that despite a period of subdued global economic growth, the last five years have proved to be remarkably resilient for T&M M&A, with volumes and valuations demonstrating substantial increases and reinforcing the global potential of the sector. In 2014, for instance, there were around 220 global M&A transactions involving T&M companies. And 3 years later, this had risen to around 350.

Measuring success: where does the UK sit?

The UK has long established itself as a key player in the T&M sector, with around 20% of worldwide deals in the last four years having had a UK vendor. Moreover, foreign interest in the UK test and measurement sector is high, with international acquirers responsible for nearly two thirds of UK T&M company sales throughout 2016 and 2017.

This is further illustrated by two recent T&M deals that Livingstone advised on: the sale of Nu Instruments, a mass spectrometry company, to US corporate AMETEK; and the sale of X-ray detector manufacturer, RaySpec, to the Japanese Company Polatechno.

Both companies boasted technically-differentiated, patent-protected products, making them highly desirable to acquirers – both in the UK and internationally.

Outside of the UK, a positive trend is also visible, with the US and Canada continuing to dominate as the largest players in the global T&M market, consistently contributing to around 40% of deal volume over the past four years. In Europe as well, deal volumes have increased rapidly by 42% between 2015 and 2017.

Strength test: what makes the sector so robust?

A focus on quality over quantity has helped the industry in the face of economic uncertainty. For more advanced economies, high fixed material costs and the constant innovation involved in the manufacture of T&M instrumentation continue to serve to protect against cheaper competition.

In the UK, companies have benefited from industry preferences for equipment from brands with an established pedigree, viewed as higher quality than locally produced products. The current strength of UK manufacturing is also a boon for T&M companies, as manufactured products and services require enhanced testing, accreditation and certification.

On a global basis, increased regulation and a constant drive for efficiencies in manufacturing have also helped drive T&M sector growth. Furthermore, complex technology will increase the importance of differentiation that can be achieved via software.

Already in fact, software upgrades are standard, and so adding functionality in this manner over the lifetime of an instrument will increasingly be a base expectation. Increased automation will also be a major story over the next five years, as labs and manufacturers look to increase process throughput and reduce headcount.

Trials and tribulations: is this trend likely to continue?

Whilst the market is evidently healthy, there are factors that could be disruptive. Uncertainty surrounding the UK’s withdrawal from the EU has this potential, but so far the UK has remained a popular destination for global businesses looking to invest (with any Brexit impact appearing nominal). There are a mix of mitigating factors behind this, including the UK’s technology friendly regulatory environment, weaker sterling, and the fact that many UK T&M companies have a genuinely global outlook.

It is notable that while previous financial crashes could have been potential disruptors to the T&M industry, positive attributes (such as those outlined above) meant that the impact has been comparatively minimal.

Negative impacts were detected in the form of increased financial scrutiny by financial decision makers – particularly relating to larger items of capital expenditure, including T&M equipment. A greater level of focus does not, however, mean a lower level of requirement for T&M equipment – and since the last financial crisis, the market for rental and leasing of T&M equipment has increased markedly.

Calculated risk: how private equity has paved the way

Private equity investment has driven T&M M&A, boosting both the global and UK mid-market, and signalling the continued attraction of the sector to investors. The large amounts of capital behind private equity investors has made them more willing to pay higher prices to capture higher quality assets.

A particularly notable example includes the acquisition by Bridgepoint’s Elements Materials Technology of Exova Group Plc in June 2017 for an EV (enterprise value) of £771m, immediately creating one of the largest global testing companies.

Continued growth? Future outlook for T&M

Based on recent trends, the outlook for the T&M sector in terms of M&A remains very optimistic, both in the short and longer term. For UK business owners within the sector, overall positive market dynamics indicate an ideal opportunity for expansion.

This is driven by a continued, fundamentally strong appetite from buyers for high quality, innovative test and measurement businesses. Both domestically and internationally, corporates are expected to remain keen to seek acquisitive growth in the sector – both to augment more modest organic growth rates and to ensure that they don’t fall behind the curve in relation to the latest advances in technology.

Thus far, it appears that the uncertainty of Brexit and historical financial downturns have not yet had any significant detrimental effect on the resilience of investment in T&M. But of course, the impact of a further, significant global financial shock (such as a highly unfavourable Brexit deal), should not be overlooked

The outlook for the T&M industry is positive, both globally and in the UK. Continued investment and a strong underlying manufacturing market – resistant to cheap competition – are key to this.

In terms of M&A, based on recent processes, we at Livingstone do not see any immediate risk in diminishment of buyers’ (both domestic and overseas) appetite for high quality, differentiated T&M businesses. As such, our advice to potential vendors remains the same: remember that the timing has to be right for your company and individual shareholders, rather than beholden to macro factors.